Entrepreneurship and Effective Small Business Management, 11e, Global Edition
(Scarborough)
Chapter 7 Buying an Existing Business
1) When buying an existing business, the potential buyer should remember that:
A) it is a long process and the buyer should be patient.
B) existing businesses often do not continue to be successful after a change in ownership.
C) it is often more difficult to find capital for an existing business than it is for a start-up.
D) he/she will likely have to make significant changes in the work force.
2) One advantage of buying an existing business is:
A) you always get the best location.
B) the opportunity to participate in a national advertising campaign.
C) equipment is installed and production capacity is known.
D) easy implementation of innovations and changes from past policies.
3) When it comes to buying an existing business, it is not uncommon to find it:
A) overpriced.
B) difficult to finance.
C) with accounts receivable worth more than face value.
D) bargain priced.
4) When buying an existing business, one should remember that:
A) it is generally not important to independently evaluate the inventory.
B) you are always buying goodwill with the tangible assets of the business.
C) it is as easy to make change in an existing business as it is in a start-up.
D) the real reason for selling is seldom stated honestly.
5) The inventory in an existing business:
A) is always current and salable.
B) usually appreciate over time, making the business a bargain.
C) needs to be checked for age and salability.
D) is usually stated honestly and does not need independent auditing.
6) Accounts receivable in an existing business:
A) are rarely worth their face value.
B) unlike inventory, are often worth their face value.
C) appreciate over time due to interest and penalties.
D) are not a significant consideration when buying an existing business.
7) The first step an entrepreneur should take when acquiring an existing business is to:
A) explore financing options.
B) prepare a list of potential candidates.
C) analyze his/her skills, abilities, and interests in an honest self-audit.
D) contact existing business owners in the area and ask if their companies are for sale.
8) Once an entrepreneur has evaluated him/herself, the next step in the acquisition process would
be to:
A) explore financing options.
B) prepare a list of potential candidates and investigate them.
C) work on a smooth transition.
D) evaluate the physical condition of the business.
9) When conducting a self-evaluation, it is important to consider:
A) what kind of business you want to have and what kind you want to avoid.
B) how much money you have to invest.
C) what kind of people you like to work with.
D) how good are your sales and negotiating skills.
10) The biggest source for the best companies to buy is:
A) business brokers.
B) commercial bankers.
C) trade associations.
D) the hidden market.
11) The process of gathering information about the company, valuing the company, and
performing a detailed review of all records, agreements, and compliance is called:
A) a letter of intent.
B) nondisclosure.
C) valuation.
D) due diligence.
12) When negotiating the deal, the most important thing to remember is:
A) terms are more important than the price paid.
B) to negotiate the lowest possible price.
C) often the difference in available funds can be made up by collecting accounts payable.
D) the owner of the business always asks 14-22% more than he/she is willing to take.
13) Perhaps the ideal source of financing the purchase of an existing business is:
A) the seller.
B) the Small Business Administration.
C) a venture banker.
D) your local bank.
14) Which of the following statements concerning the financing of a business purchase is true?
A) Often, the business seller is a poor source of financing.
B) The buyer should be able to make the payments on the loans out of the company’s cash flow.
C) The buyer should begin arranging financing late in the purchasing process, to avoid the
processing expenses if the deal falls through.
D) Traditional lenders tend to be more eager to lend on an existing business than they are with a
start-up.
15) Which of the following is a way to smooth the transition of leadership/management from the
seller of a business to the buyer?
A) Focus on the customer, offer new incentives, improve customer service.
B) Focus on the employees, listen to them, keep them informed.
C) Concentrate on operations, updating equipment and changing processes.
D) Visit your competitors and introduce yourself and get to know them.
16) Which of the following is not a critical area of business that is investigated during due
diligence?
A) Motivation
B) Employee issues
C) Asset valuation
D) Legal issues
17) In evaluating an existing business, entrepreneurs should seek to answer several questions,
including:
A) Can financing be arranged?
B) What business broker should I use?
C) What industries will be “hot” in the future and is this business in one of them?
D) What legal aspects should be considered?
18) The most common reasons owners of small- and medium-sized businesses give for selling
their businesses are:
A) need for money and low return on investment.
B) boredom and burnout.
C) low return on investment and burnout.
D) poor location and low return on investment.
19) When a buyer is reviewing a candidate company’s lease arrangements, location and
appearance, intangible assets, etc., he is answering what basic acquisition question?
A) Is the business financially sound?
B) Why does the owner want to sell?
C) What is the physical condition of the business?
D) What legal aspects should be considered?
20) If the firm owns any trademarks, patents, or copyrights, or has built up a positive reputation
with customers and suppliers, the business has what is/are called:
A) capital.
B) goodwill.
C) intangible assets.
D) market potential.
21) ________ is (are) creditors’ claims against an existing business.
A) Assets
B) Liens
C) Equity
D) Accounts receivable
22) ________ clauses require the buyer to pay the full amount of the remaining loan balance or
to finance the balance at prevailing interest rates.
A) Diligence
B) Lien
C) Foreclosure
D) Due-on-sale
23) Normally, when buying a business, the seller:
A) does not sign a restrictive covenant.
B) notifies creditors 10 days prior to the sale of the business.
C) cannot assign his credit arrangements with suppliers to the buyer.
D) has little formal role or obligation in preparing documents and information necessary to the
sale.
24) An agreement between a business seller and the buyer, in which the seller agrees not to open
a competing business within a specific time period and geographic area, is called a:
A) nondisclosure statement.
B) restrictive covenant.
C) bulk transfer.
D) letter of intent.
25) To be enforceable, a covenant not to compete must be:
A) for the life of the business.
B) approved by a court of law.
C) for both direct and indirect competitive businesses.
D) reasonable in scope.
26) When the buyer is examining the income statements, tax returns, and balance sheets of the
business, he/she is seeking an answer to the basic question:
A) Is the business financially sound?
B) Why does the owner want to sell?
C) What is the physical condition of the business?
D) What legal aspects should be considered?
27) When seeking to evaluate the financial soundness of the company prior to purchase, the
buyer needs to examine:
A) sales tax records.
B) income tax returns.
C) financial statements.
D) all of the above.
28) It is important to remember when assessing the financial soundness of a company that:
A) if profits are adequate, there will be sufficient funds to pay salaries and fund cash flow.
B) cash flow is the key financial element in determining financial soundness.
C) revenues need to equal to twice the debt load in order for the company to be viable.
D) the buyer is buying the past revenues and profits of the company.
29) Which of the following statements about valuing a business is true?
A) The balance sheet technique is the best way to value a business.
B) Business valuation is partly art and partly science.
C) Buyers should rely on established “rules of thumb” to decide what a company is worth.
D) The primary reason buyers purchase existing businesses is to get their current earning
potential.
30) The valuation method that is commonly used, but tends to oversimplify the valuation
process, is called:
A) the excess-earnings method.
B) the balance sheet method.
C) the capitalization method.
D) the market approach.
31) A valuation method that is more realistic than the balance sheet because it adjusts book value
to reflect actual market value is the:
A) excess-earnings method.
B) market approach.
C) capitalization method.
D) adjusted balance sheet method.
32) Which of the following valuation methods does not consider the future income-earning
potential of a business?
A) Balance sheet technique
B) Excess-earnings method
C) Discounted future earnings approach
D) Market approach
33) The valuation approach that considers the value of goodwill is the:
A) balance sheet technique.
B) excess-earnings method.
C) discounted future earnings approach.
D) market approach.
34) When it comes to transferring goodwill in a business valuation, goodwill:
A) is considered an intangible asset and therefore not taxed.
B) can be used as a deduction by the seller.
C) is taxed for the seller as capital gains.
D) cannot be used as a deduction by the buyer because it is a capital asset.
35) The capitalized earnings approach determines the value of a business by capitalizing its
expected profits using:
A) the rate of return reflecting the risk level.
B) the prime interest rate.
C) the normal rate of return.
D) the prevailing rate of inflation.
36) The ________ approach to valuing a business assumes that a dollar earned in the future is
worth less than that same dollar is today.
A) balance sheet
B) capitalized earnings
C) excess earnings
D) discounted future earnings
37) Which method of business valuation relies on three forecasts of future earnings—optimistic,
pessimistic, and most likely?
A) Balance sheet technique
B) Excess-earnings method
C) Discounted future earnings
D) Market approach
38) The ________ approach to valuing a business uses the price-earnings ratios of similar
businesses to establish the value of a company.
A) balance sheet
B) capitalized earnings
C) discounted future earnings
D) market
39) A company’s P/E ratio is:
A) the price of one share of its common stock divided by its earnings per share.
B) its profits per share divided by its equity per share.
C) its profits per share divided by its excess cash flow per share.
D) the price of one share of its common stock divided by external capitalization.
40) Which of the following is a drawback of the market approach of valuation?
A) It does not consider current earnings.
B) It may under represent earnings.
C) Its reliability depends on the forecasts of future earnings.
D) It over emphasizes the value of goodwill.
41) The mechanics of most small business sales involve:
A) a cash buyout with no financing.
B) a down payment with a note carried by the seller.
C) no down payment with a note carried by the seller.
D) an exchange of one company’s stock for another, and stock options for senior managers.
42) Both buyers and sellers must recognize that no one benefits without a(n):
A) low price.
B) high price.
C) agreement.
D) product.
43) The ________ is the area within which the two parties can reach an agreement.
A) bargaining zone
B) market
C) selling zone
D) buying zone
44) In a business sale, the seller is looking to:
A) negotiate favorable payment terms, preferably over time.
B) minimize the amount of cash paid up front.
C) maximize the cash he/she gets from the sale.
D) get the business at the lowest price possible.
45) In a business sale, the buyer seeks to:
A) get the business at the lowest price possible.
B) negotiate favorable payment terms, preferably over time.
C) minimize the amount of cash paid up front.
D) All of the above
46) To avoid a stalled deal, both seller and buyer should go into the negotiation process with:
A) income tax returns of past three to five years.
B) records of accounts payable.
C) list of objectives ranked in order of priority.
D) an optimistic attitude.
47) Which one of the following is not a goal of a buyer?
A) Buying the business at the lowest price possible
B) Outsmarting the seller
C) Negotiating favorable payment terms
D) Minimizing the amount of cash paid out front
48) The recommended step(s) when buying a business is (are):
A) investigate the potential acquisitions.
B) explore a variety of financing options.
C) analyze your skills and abilities.
D) All of the above
49) Business valuation is partly an art and partly:
A) a craft.
B) a science.
C) a sale.
D) a purchase.
50) One advantage of the excess-earnings method is that it:
A) offers an estimate of goodwill.
B) increases the profit.
C) increases the cash.
D) All of the above
51) There are three components in the rate of return used to value a business. The component(s)
are:
A) risk-free return.
B) an inflation premium.
C) the risk allowance for investing in the particular business.
D) All of the above
52) Using the discounted future earnings approach, the buyer estimates:
A) the company’s net income for the next six months.
B) the company’s net income for the several years.
C) the company’s net income for several years and then discounted back to the present value.
D) the company’s net asset for several years and then discounted back to the present value.
53) In the market approach, the technique to calculate the value of a company is:
A) ROI.
B) P/E.
C) ROA.
D) P/A.
54) To avoid a bumpy transition, a business buyer should do the following:
A) concentrate on communicating with employees.
B) be honest with employees.
C) devote time to selling your vision for the company to its key stakeholders.
D) All of the above
55) The ________ is a firm commitment by both sides that they are ready to move toward
closing the sale of the business.
A) due diligence process
B) sale deed
C) loan covenant
D) letter of intent
56) Which of the following is an intangible asset?
A) Building
B) Machinery
C) Vehicles
D) Trademark
57) In general, in negotiations and acquisitions of a business, the buyer seeks to:
A) get the business at the lowest price possible.
B) negotiate favorable payment terms, preferably over time.
C) Both A and B
D) None of the above
58) The bargaining zone is:
A) the area within the bargaining process in which an agreement can be reached.
B) where the buyer gets the best deal.
C) where the seller gets the best deal.
D) None of the above
59) In an asset sale, the seller keeps all:
A) liabilities.
B) cash.
C) current assets.
D) inventories.
60) The ________ method of valuation assumes that a dollar earned in the future will be worth
less than that same dollar today.
A) market approach
B) discounted future earnings approach
C) asset approach
D) None of the above